Third-quarter data released by the country's central bureau of statistics on November 15 revealed stronger than expected growth with the GDP rising at a rate of 6.5%, the fastest rate of growth since the first quarter of 1997, when GDP grew by 7.8%.
GDP growth was 6.3% in the second quarter and averaged 6.1% for the first half of 2007. This is up from the overall rate of 5.5% in 2006.
Although economists had predicted growth of only 6.2% for the third quarter, Indonesia has remained relatively insulated from the effects of the subprime mortgage crisis in the US. Although a possible recession in the US could impact Indonesia's trade position, the US market accounts for only 10% of Indonesia's exports.
"So far, the turmoil in the global financial markets has not directly affected Indonesia's economy," Sigit Pramono, president director of Bank Negara Indonesia (BNI), told OBG.
Meanwhile, the high demand for raw materials from India and China has helped sustain Indonesia's exports, particularly of coal, gas and electricity. Last quarter, total exports rose by 7.8% y-o-y.
Another important component of growth has been private consumption, which grew 5.3% y-o-y. After 13 interest rate cuts by Bank Indonesia (BI) since July 2006, shaving off a total of 4.5 percentage points, relatively low interest rates at 8.25% are stimulating consumer spending.
This has led some economists to argue that some of this growth has been artificially created. However, there is also the latent effect of delayed spending since late 2005, when fuel price hikes dented consumer spending.
"Early Ramadan spending has helped sustain household consumption growth in the third quarter," said Helmi Arman, an economist at Bahana Securities.
The government has been pursuing an activist investment policy, increasing overall spending by 7.3% for 2007 as a whole, to RP750trn ($80bn). So far, the government has disbursed RP506trn ($54bn) this year.
Inflation has remained relatively tame, however, with BI figures revealing the rate of inflation was 5.24% in the first 10 months of 2007. However, potential external threats such as rising oil costs and tightening credit conditions have led to scepticism regarding further rate cuts by BI.
"Most of us believe the BI rate can be cut to 8% before the end of this year," BNI's Pramono told OBG. "But I also realise that inflation, partly induced by high oil prices, is one of [Indonesia's] biggest obstacles in 2008 in decreasing the interest rate."
Both BI and President Susilo Bambang Yudhoyono have forecast 6.4% GDP growth in the final quarter of this year, which, if met, would mean the economy reached the government's goal for this year of average growth of 6.3%.
Agricultural output grew 8.9% y-o-y last quarter, underpinned by higher than normal rain yields. Similarly, overall investment rose by 8.8% in the same period. This has led the government to renew its GDP growth forecast for 2007, as well as to its 6.8% GDP growth prediction for 2008.
"Barring unanticipated developments, I think we are quite confident that 6.5% to 7% is still a relevant range," Boediono, coordinating minister for the economy, said at a press conference in Singapore. "Our exports will not be much affected by the global slowdown."
However, the World Bank has revised its growth forecast for Indonesia for 2008, down from 6.5% to 6.4% given its concerns over external conditions such as international oil prices and tight liquidity on financial markets. However, the bank supports Yudhoyono's stated belief that GDP growth could be boosted through much-needed improvements in the country's infrastructure.
In the meantime it is quite clear strong commodity prices have sustained Indonesia's external trading position. Meanwhile, in an economy where consumption accounts for close to 70% of GDP, strong consumer spending is expected to keep the economy buoyant. In the midst of grim forecasts for the US economy, all eyes are on domestic consumption in emerging economies to insulate the global economies from downward pressures.